Tuesday, August 16, 2011

How Long Will the Euro Monetary Cartel Survive?

A paper by Margaret C. Levenstein and Valerie Y. Suslow, “What Determines Cartel Success?” ( Journal of Economic Literature, March 2006 ), potentially provides  elements of information that lead to an answer.

First, remember my analysis in a recent book, “L’euro: comment s’en débarrasser” (Grasset, 2011), of the euro as a cartel of currencies intended to maintain a high price of the jointly created substitute currency (the euro, which replaced the DM, Franc, Lira and other national currencies), in order for the big borrowers – banks, governments, and firms -- to lower the cost of the funds they borrow.

Second, read the abstract of the Levenstein/Suslow paper:

… “We conclude that many cartels do survive, and that the distribution of duration is bimodal. While the average duration of cartels across a range of studies is about five years, many cartels break up very quickly (i.e. in less than a year). But there are many others that last between five and ten years, and some that last decades.     Cartels break up occasionally because of cheating or lack of effective monitoring, but the biggest challenges cartels face are entry and adjustment of the collusive agreement in response to changing economic conditions. Cartels that develop organizational structures that allow them the flexibility to respond to these changing conditions are more likely to survive.”

Now the euro was born more than ten years ago, in 1999. It has obviously been submitted to cheating by many if not all of its member states, via the repeal of the “stability pact” and overborrowing by several governments that breached the quota limitations that are essential for a cartel to survive. It has faced entry by new members and its collusive agreement is confronted to severe and changing economic conditions.

But on the other hand it clearly developed an “organizational structure” in the guise of the European Central Bank, which, like all other central banks is an instrument of collusion and defense of the interest of financial institutions.

My guess is that this cartel is going to disintegrate, maybe to be replaced by a smaller, more homogenous one. Its life span is already respectable but it has an important comparative advantage over other cartels: the compulsory collusion organizer that is the ECB. So I would be surprised if it disappeared right now. I rather expect a protracted process of progressive disintegration (that could suddenly accelerate) by the exit of one country after another.

However, as I wrote in the book, the game with 17 players is too complex to allow a precise forecast, either regarding the scenario, or its timing. But right now the ECB has been compelled to renege also on its charter by bailing out a few overleveraged governments of the South. A policy which was strictly forbidden by the initial agreement. So watch out.

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